Discover the benefits of obtaining a personal loan over other sources of credit. Personal loans have a range of uses and benefits that can make them better than credit cards or other forms of credit. Unfortunately, people often use the wrong kind of credit account and pay more than they should when they need to borrow money. This article will teach you how to make the most of the benefits of getting a personal loan.
If you have ever needed money, you may have wondered, “What is a benefit of obtaining a personal loan?” Getting a personal loan is not always the best option, but it can be a great choice in multiple scenarios. Personal loans can help you make a major purchase, but they can also help pay for unexpected expenses or help you consolidate existing debt.
The value of obtaining a personal loan depends on your individual goals and situation, but we will cover some of the most common reasons people do it. This will help you determine whether a personal loan is the right solution for you.
What is a personal loan?
A personal loan is a specific amount of money that a lender gives to a borrower for personal expenses. Personal loans are paid in monthly installments over a pre-agreed timeframe (usually two to seven years). They can also have variable or fixed interest rates. These characteristics make them different from revolving lines of credit like a credit card.
This loan typically comes from a financial institution such as a bank or credit union. They give you the money you need in exchange for you agreeing to pay interest on the loan. A personal loan can also include other fees beyond the interest charged to the borrower.
What fees you will pay vary based on your lender and the regulations of your state. It will also depend on any additional features you add to the account, such as credit insurance.
Some of the fees that can be associated with personal loans are:
- Application fees
- Processing fees
- Loan origination fees
- Prepayment fees
The annual cost of credit is the amount the loan holder pays in interest and certain fees each year for the account. This yearly cost is referred to as the annual percentage rate (APR). The APR is standardized as a yearly rate to make side-by-side personal loan comparisons more comprehensive.
It is possible the APR will cover all the fees, but not in every case. It’s important to check the terms of the personal loan because there are different kinds with different fees.
The two types of personal loans
There are two main types of personal loans. It’s important to review the distinctions so you can make an informed choice on which option is best for you.
A Secured personal loan
The major requirement here is collateral. If you don’t have an asset of value this is likely not for you. A secured personal loan requires the borrower to offer their house, car, or another asset as collateral. This reduces the risk for the lender and provides assurances of consistent payment. If the borrower stops making payments, the lender can take possession of the asset and sell it to pay the debt.
Why would you want to offer a home or car as collateral? Well, a secured loan typically makes the lender provide more attractive interest rates. These reduced interest charges will help you save money over the life of the loan. This is especially relevant if the repayment term is several years. It’s also easier to be approved for a secured loan than for an unsecured loan.
An Unsecured personal loan
It also means the bank or lender does not have the same recourse to recover unpaid debt. Be aware that this means they will likely offset risk in other ways. Typically, unsecured loans have higher interest rates, and it may be more difficult to get approved. That said, there are strategies for getting qualified for a personal loan.
What is the main benefit of obtaining a personal loan?
There are many advantages to using a personal loan, but the main benefit is the flexibility they provide when making a large purchase or consolidating debt. This flexibility allows consumers to pay for unpredictable expenses, consolidate debt, and reduce the amount of interest you pay on your current debt. Let’s discuss these advantages in more detail.
Pay for unpredictable expenses
Sometimes life happens. When it does, you don’t always have the savings to cover the expenses.
This is where personal loans come into play. A personal loan can help you out of a jam, especially when there is no way to budget due to the unpredictability of the event or the amount of money you need. Personal loans offer more money than could typically be accessible within a credit card limit. Also, a personal loan is often preferable to using a credit card because the interest rates can be significantly less.
For emergency expenses, many people reach for their credit cards first. This may be a necessity depending on how quickly you need the cash, but it’s not always the best choice to replace an emergency fund. Some credit cards are very high in interest, and you don’t want a large amount of high-interest debt if you already have other issues to deal with.
Personal loans also have advantages over payday loans. These are another common go-to for people when they have unexpected expenses. A payday loan can be convenient for fast cash, but they are very expensive. The Consumer Financial Protection Bureau (CFPB) estimates that many payday loans have a 400% APR (source).
If you run out of emergency funds and use a credit card to cover unexpected expenses, you may be able to consolidate debt with a personal loan later.
Consolidate debt with a personal loan
Do you have pre-existing debt? Many people take advantage of personal loans to save money and better manage their debt. A personal loan can help you keep track of your finances by reconsolidating.
This is a particularly relevant option if you have several credit card balances to manage. Opening a personal loan would allow you to centralize the debt into a single account. Using a personal loan for debt consolidation means fewer monthly payments to remember and coordinate.
This will spare you a lot of stress and money. Particularly when accounts are with different lenders or banks. Each institution has a different website and mobile app so managing the balances and due dates can quickly get overwhelming.
If you do forget to make one of those credit account payments, you will likely have to pay late fees. You may also see a dip in your credit score. On top of that, if the credit accounts are credit cards, then you are probably paying more than you should with interest fees. By combining your accounts, you may also be able to reduce your monthly payment.
Reduce the amount of interest you pay
A personal loan can save you a fortune in interest payments if your debt is in high-interest credit cards. If you have multiple credit card accounts or high-interest accounts this is likely a good option. Consider using personal loan funds to consolidate the debt.
Credit card accounts can be great in many ways. You can use them to receive rewards or travel miles for purchases. That said, this is only worth it if you can pay the statement balance each month. When you carry a balance, the interest will often negate the rewards you receive from spending.
If you carry a balance each month, consider a personal loan to pay it off in a lump sum. This will stop you from hemorrhaging cash in interest or other fees on high-interest debts. The APR of a credit card account is likely higher than a personal loan (source). Every month you have high-interest credit card debt building can be a totally unnecessary cost.
Finance a major purchase
When you consider buying something big, you may want to consider a personal loan. As mentioned previously, the APR can be lower than other options and you can borrow a large amount. This is particularly important if you want to make large purchases now and know it will be a few months or years before you can pay it off.
The lower interest rate can really make a difference in the total cost of the purchase. Many people use personal loans to finance major purchases like:
- A home improvement project
- Car maintenance costs
- Wedding expenses
- Education expenses
- A much-needed vacation
Build your credit history and increase your credit score
Your credit score and history are tremendously important. A good credit score shows lenders that you pay your debts and that you pay on time. When you make on-time payments with a personal loan, it is reported to the credit bureaus.
Lenders will then use your credit score to decide eligibility when assessing future applications. The age of your existing credit accounts and the mix of account types is a big part of the credit score as well. So, adding a personal loan can help diversify your account types and demonstrate payment consistency.
It’s important to establish a history of on-time monthly payments as soon as possible. By doing so you will maximize your chances of being approved by a lender when you need a car loan, mortgage, or another loan down the road. It will also help ensure you get the best interest rate on that future loan.
How to take out a personal loan
So, you’re convinced that a personal loan fits your needs, but how do you get one? Where do you start?
Review your financial situation
The first thing you need to know is how much money you need to borrow. Beyond the loan amount, you should also consider the monthly payments. These will cut into your monthly cash flow, so calculate how much you can afford to pay in these monthly installments.
Finding a lender
The second step is to find a good lender. You want to make sure the lender offers loan terms that suit your needs. This includes the right repayment period, APR, and monthly payment. This may be more difficult if you have no positive payment history. Use SuperMoney’s personal loan engine to check what rates you can prequalify for without hurting your credit.
If you have poor credit or just have a short credit history, it can make borrowing money more difficult. If you have a lower credit score, then you may want to consider a secured loan. A lender who offers secured loans will look at more than just your credit report because they have the assurance of collateral on the debt.
Gather your documents
Your lender will need some documents from you for the personal loan application. The documents you need will be different depending on what personal loan and lender you choose. Some lenders will require things such as a social security number or a credit report check. However, this is not true for all.
Secured loan documents
If you chose a Secured personal loan that uses your car, for instance, for collateral, then be prepared to provide:
- The vehicle title (this proves ownership)
- The vehicle registration
- A driver’s license
- Proof of address
- Proof of income
- Interior and exterior photos of your car’s condition
- The Car’s VIN and mileage
- A bank account and routing number (your checking account number is on your statements or visible through online banking)
Unsecured loan documents
Unsecured loans may be more straightforward because you don’t have to provide the same documents needed with a secured loan. That said, they will likely want to see:
- A valid photo ID (driver’s license or passport that is not expired)
- Proof of income
- Proof of address
- 1-4 personal references
Apply for the loan
Once you have the necessary documents, most personal loans offer a quick application process. After you submit the application, your lender will look it over to verify the information. If approved, you should get the funds within a day. Some lenders may get it to you as soon as two hours, but 24 hours is more likely.
Using the loan
This step is easy. When you get the money, you are free to use it for your intended purposes.
Make your monthly loan payments
Don’t forget to make the monthly payment for your loan, especially if you got the loan to improve your credit score. Setting a calendar reminder on your phone is always a good idea. This way you can set the reminder to give you a notification automatically each month before the due date.
A consistent pattern of on-time payments is critical to optimizing your credit score so you can get lower interest rates in the future. Whether you plan on getting a mortgage, business loans, car loans, or even student loans, a good credit score can save you a lot of money.
Personal loans can be an excellent solution when you need to borrow money. They can help finance a large purchase, cover unexpected costs, or even help to save money and stress through consolidating your debt. If you are ready to get started, SuperMoney has a list of the best personal loans available.
- A personal loan is money that is lent to a borrower and paid back in monthly installments.
- Personal loans can often allow you to borrow more money than a credit card and can provide a lower interest rate.
- Personal loans are not like credit cards. They have a set timeframe for repayment and can come with different fees, such as origination fees.
- Common uses of a personal loan include funding a large purchase, unexpected emergency expenses, debt consolidation, improving your credit score.